High frequency trading (explained by a quant developer)

what's up guys coding jesus here and in this video i'm going to be explaining to you what high frequency trading is i get a lot of videos asking coding jesus what the hell is high frequency trading can you explain it and i decided that this video will be the first video that i'll be talking about high frequency trading in okay so i want to really make this video about explaining high frequency trading in the simplest possible of terms so if you don't understand what high frequency trading is at the end of this video then i've

done something wrong and i know this channel you know it's called coding jesus i got the jesus part kind of down i'm still working on the coding part but this video will have no coding whatsoever so if you're new to this channel and you just want to learn about what actually high frequency trading is then this is the first video for you it's the right first video for you okay let's get into it coding jesus what is high frequency trading high frequency trading put very simply is finding opportunities in the market and capitalizing on about

them capitalizing on them to be to be more precise and doing so in a manner that relies on speed of execution okay what you need to understand is that high frequency traders do not care about what the asset they're trading is it can be dog for all they care it can be apple it can be dog it can be a banana it can be skittles they do not care the only thing they care about is the price they see on the screen because that price is subject to change and all change leads to different opportunity

okay so let's actually take a look at a practical application of what high frequency traders would do and i think the simplest strategy to discuss today is a strategy called arbitrage okay like i said guys price is simply a number on a screen and different people especially in places across the globe have different numbers on the screen for the same commodity let me give you an example a banana where i am right now in toronto might cost a dollar a banana maybe in somewhere in the states like chicago might cost two dollars let's say i

am a high frequency trader and i have a operation in which i get a bunch of people to buy bananas in canada and sell them in the us okay i don't care what the underlying commodity is it just happens to be bananas but i see a discrepancy in price that i can capitalize in the arbitrage strategy to actually make money okay so what i'm doing is i'm going to go ahead and buy bananas in toronto and sell them in chicago conversely i can sell a bunch of bananas in chicago and go ahead and buy back

those bananas in toronto and make a dollar on each banana okay so that's a given strategy that people would use as high frequency traders now in high frequency trading it's called high frequency for a reason and i was hinting at this at the beginning of the video oftentimes these opportunities arrive and they also disappear just as quickly as they've they've arisen so it's very important in high frequency trading to be able to capitalize on opportunities quickly because if you do not capitalize on those opportunities then other people will capitalize on those opportunities for you let

me distill this in another strategy that somebody might employ at a high frequency trading firm before i talk about the strategy guys it's important to realize that there are thousands of different firms all that all call themselves high frequency trading firms and not all of us all of them employ the same strategies they might all employ the same basic type of strategies but different strategies have different different firms have different strategies and different firms might employ proprietary strategies that other firms don't even know about okay they have some sort of model they hire really smart

people to think about ways to take advantage of prices in the in the actual marketplace okay i just spoke to you guys about a strategy that involves not caring about the actual value of the underlying commodity okay when i was speaking to you guys about bananas i didn't care at all that i was trading a banana i just saw that the price in one place is different from the price on the other and that brought upon something called an arbitrage opportunity a riskless opportunity whether or not that's truly riskless is up for another video but

that's the opportunity that presented itself another opportunity that a high frequency trading firm might look at might actually involve subjective valuation so they might create a given amount of models for a given commodity that might price a commodity given price okay their model puts out a subjective valuation for bananas at a dollar fifty that's what they're worth they don't care what it's currently worth in the market if it's not worth 150 in the market there's an opportunity but their subjective valuation is 1.50 now disregard what communists tell you value is not objective it is totally

subjective because each one of us have our own subjective valuations for how we weigh both our needs and our wants in light of the resources that we have but regardless what i'm getting at here is that these firms will go ahead and implement some sort of model that will push out a subjective price now these are really smart people and they are very certain that their price is right that bananas are actually worth a dollar fifty even though the market's pricing them at a dollar so what do they go ahead and do they go ahead

and buy a bunch of bananas at a dollar hoping that in the very near term or maybe that may that might mean a day that might mean three seconds that might mean three weeks but in the very near term the price will reach equilibrium and by that i mean reach their subjective valuation for that given commodity now what that means is they're taking on a significant amount of risk which they have to then hedge out in the market i don't want to get too complex here but it means they have to get rid of that

risk somehow in the market why are they taking risk in this strategy they are taking on a risk because if the price of bananas does not move towards a dollar fifty and stays below a dollar for an extended period of time well then they're actually losing money for going making that trade they are losing money for doing so they bought a bunch of bananas at a dollar they their models told them the bananas are worth a dollar fifty but bananas have been at 90 cents for the past three months and they're scratching their head thinking

what are we gonna do with all these bananas okay so there is a degree of risk with this strategy just like there is in almost every quantitative strategy or every strategy employed by hedge funds and high frequency trading firms in particular okay guys that's the end of the video hopefully you learned something from it i wanted to make it as simple as possible guys if you like this video if you found it interesting make sure to hit that subscribe button and smash the thumbs up button guys it really helps me with the youtube algorithm if

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watching this video cheers